Lotte Chemical's share price has been on the decline recently, as global oil prices started to rise again.
According to the Korea Exchange on May 29, Lotte Chemical's share price has been steadily declining for about three months. Its price fell to 364,500 won on May 25, a 23.3% drop from the the peak of 475,000 won on March 2. It ended at 363,000 won on May 30, down 2.68% from the previous day. The total market capitalization, which went up to 16.28 trillion won, shrank to 12.44 trillion won.
The decline of the company’s share price results from a pessimistic outlook on the chemical market. Lotte Chemical's record-high earnings for two straight years from 2016 are due to low international oil prices. Thanks to low oil prices, raw material costs have remained stable, while the economic upswing boosted demands for petrochemical products, helping Lotte Chemical put up an impressive show.
However, oil prices have recently risen sharply to around US$80 a barrel, putting upward pressure on the prices of chemical products that use oil as a raw material. If the hike in raw materials prices is not timely reflected in the prices of chemical products, chemical producers’ profit margin worsens.
Lotte Chemical earned 662 billion won in operating profit in the first quarter of this year, down 18.8% from the same period last year. The drop in profit was attributable to rising oil prices, which weakened demand for chemical products.
Deterioration in profitability from rising oil prices is getting worse in the second quarter. Hwang Yoo-sik, a researcher at NH Investment & Securities, said, "Naphtha prices were US$630 per ton as of the end of April, but as of May, they were US$696 per ton, up about US$66. Yet the prices of chemical products remained flat.”
He added that the operating profits of naphtha cracking centers (NCCs) are expected to decline by about 10% from the previous estimate due to rising costs. In particular, Lotte Chemical’s profits from naphtha cracking exceed 50% of its total operating profit.
The problem for Lotte Chemical is that it has to finance facility expansion projects under worsening market conditions. During the market upswing, the company started to expand its production capacity at home and abroad using its hefty profits. The expansion projects in its Yeosu and Ulsan plants and Lotte Chemical Titan Holding, a subsidiary in Southeast Asia, will continue into next year.
The company is also building an ethylene cracker complex (ECC) in Louisiana at a total cost of US$3.1 billion (approx. 3.23 trillion won). Scheduled for commercial operation in the first half of 2019, the plant will produce 1 million tons of ethylene and 700,000 tons of ethylene glycol (EG) annually.
Even before the plant goes into operation, however, a dark cloud is hovering over it. US ethylene prices, which were around US$600 per ton at the beginning of the year, have plummeted to US$270 recently, causing massive losses to ECC companies. The main reason for the sharp drop in ethylene prices is the large-scale expansion of cracking facilities. Despite the abundance in ethylene in the US due to ECC expansion, there is a shortage of polyethylene (PE) facilities that make chemical products from ethylene.
“The ethylene capacity in the US increased by 13.4 million tons between 2017 and 2018, but the increase in PE capacity was only 4.48 million tons," said Jeon Woo-jae, a researcher at Heungkuk Life Insurance. “Even if the new PE facilities go into operation in the second half of the year, ethylene will still overflow in the US over the medium to long term,” he added. This spells trouble for Lotte Chemical next year and beyond.